Alexander Bowen: It’s time for a fiscal rule referendum

Alexander Bowen is a trainee economist based in Belgium, specialising in public policy assessment, and a policy fellow at a British think tank.

In 2001 Switzerland and the UK had near-identical debt to GDP levels – about 30 per cent in Switzerland and about 30 per cent in the UK.

The UK was, for the first and only time this millennium, running a budget surplus and a large one too – £23.1bn or 2.1 per cent of GDP (the equivalent post-inflation of £45bn today, just £15bn short of the defence budget).

As you will well know, this was under a Labour government, but it was under a Labour government implementing the fiscal plans bequeathed to them by the 1990s Major Government.

What could be observed then was a bipartisan consensus behind reducing the nation’s debt – a good countercyclical measure to respond to the boom Britain was enjoying. Fixing the roof whilst the sun is shining as George Osborne chanted every week in the early 2010s.

25 years later where are we?

Switzerland’s debt to GDP is still around 30 per cent – in net terms it’s fallen to a little under 20 per cent. Britain’s, meanwhile, stands at a level three-times higher than where it was in 2001 – 95 percent. Even worse some £111bn is now spent annually on servicing the debt (£30bn more than the Swiss federal government spends on everything – debt included).

Now Britain and Switzerland are not equivalent economies – they have never been and never will be – and in part the divergence between the two reflects that. Switzerland after all is a high productivity state committed to efficient taxation and world-class infrastructure. The UK is certainly not that – as anyone who has tried to use public transport or interact with Britain’s world-beating NHS can attest to. Yet there is a deeper story behind the divergence in public debts and that story starts frankly in 2001 with two events.

Firstly in June, Labour is re-elected. 60 per cent turnout, 40 per cent of the vote. 412 seats. The Tories under William Hague meanwhile gained only 1 per cent of the vote and 1 seat. That mandate leaves Blair and Brown free to diverge from their prior commitments to fiscal responsibility – and diverge they do.

Real terms NHS spending increases go from averaging a manageable 3.7 per cent under Major and Blair’s first term to an astonishing 8.2 per cent peaking at just over 10 per cent in 2003. It’s a level of increase so great that even the King’s Fund would describe it as provoking doubts about value for money. It doesn’t boost public sector productivity, 2001 is where it starts flatlining in fact, and it isn’t being driven by any particular challenge but rather to meet an arbitrary EU-14 benchmark. Spending more for its own sake. By the time of the 2003 Budget a £20bn surplus had been replaced with a £40bn deficit. A level at which it would stay until 2008.

2001 marked the start of a boom-time binge for Britain (so much for the old adage about responsibility taking away the punch as the party’s getting started), yet in Switzerland something quite remarkable was happening. Practically every party and every person, some 85 per cent of Swiss voters, agreed to do something entirely different. To insert into the constitution Article 126 – a requirement for the government to use the prosperity of the 2000s to pay down the debt.

The actual text of Article 126 is fairly simple – revenues and expenditure must be balanced over time; total expenditure in a given year is based on total revenue adjusted for the economic cycle; in exceptional circumstances this can be ignored but when it is the years following must see expenditure cuts to offset it.

It is a requirement then to run a balanced budget but one that does so without impeding on the government’s ability to offset crisis. Constitutionally mandated surpluses pay for constitutionally permitted deficits; and politicians conscious that their spending today during crises guarantees less money for them to spend tomorrow, mitigate their own excesses (eat out to help out coming to mind). Observationally and empirically it’s worked too – one study from last year on the rule found it was worth about 3.7pp of GDP in reduced deficit spending.

Imagine that, if you can, a fiscal rule that works. Not only one that works but one that is supported by essentially everyone, is clear and understandable, and does not change semi-annually. How do we get there?

A good start would be to stop pretending that the current fiscal rules have any meaning – run a current budget surplus in five years’ time is no more meaningful than the re-armament policy of the 1920s and 1930s (“be ready to wage a war in ten years’ time” for ten years is surprisingly always ten years away). An even better one would be to stop pretending that their status in the law is of any relevance – with Parliamentary Supremacy the penalty for ignoring fiscal rules is set by the bond markets not the law courts nor the OBR.

What good fiscal rules need the most then are an extra-parliamentary legitimacy – the kind that spiritually though not legally binds every party and every Parliament, the kind that Scottish or Welsh devolution enjoys, the kind that derives only from the people.

It’s time then for a fiscal rule referendum.